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ECON 1000 final exam notes

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ECON 1000
Sadia Mariam Malik

Jessica  Gahtan   ECON  1000   Ch.  1:  Definition  of  Economics   • Economics:  the  social  science  that  studies  the  choice  individuals,  businesses,  governments,  and   entire  societies  make  as  they  cope  with  scarcity  and  he  incentives  that  influence  and  reconcile   those  choices   • Scarcity:  inability  to  satisfy  all  wants/needs  because  of  limited  resource   • Incentive:  a  reward  that  encourages  an  action  or  a  pe nalty  that  discourages  an  action   • Microeconomics:    the  study  of  the  choices  that  individuals  and  businesses  make,  the  way  these   choices  interact  in  markets  and  influence  the  government   • Macroeconomics:  the  study  of  the  performance  of  the  national  economy  and  the  global   economy   o Microeconomics  vs.  Macroeconomics:  no  money  involved  in  microeconomics   • Two  big  economics  questions   o How  do  choices  end  up  determining   what,  how,  and  for  whom  goods  and  services  get   produced?   o When  do  choices  made  in  the  pursuit  of   self-­‐interest  also  promote  the  social  interest?   • Factors  of  production   o Land:  earns  rent    Natural  resources:  minerals,  oil,  gas,  coal,  wat er,  air,  forests,  fish,  etc.    some  renewable  (can  be  recycled),  some  non-­‐renewable  (resources  to  make   energy)   o Labour:  earns  wages    work,  time  and  effort  that  people  devote  to  production  goods  and  services      physical  and  mental  efforts    quality  depends  on  human  capital  (knowledge  and  skill  that  people  obtain  from   education,  training,  and  experience)     o Capital:  earns  interest    tools,  instruments,  machines,  buildings  used  to  produce  goods  and  services    financial  capital  used  to  buy  physical  capital,  but  is  not  a  prod uctive  resource  as   it  is  not  used  to  produce  goods  and  services   o Entrepreneurship:  earns  profit    human  resources  that  organize  labour,  land  and  capital   • Self-­‐interest:  if  the  choice  is  the  best  available  for  an  individual.  Using  time  and  resources  in   ways  that  make  sense  to  an  individual.  Don't  think  how  choices  affect  society.   • Social  interest:  self-­‐interested  choices  promote  social  interest  if  they  lead  to  an  outcome  t hat  is   the  best  for  society  as  a  whole.  An  outcome  that  uses  resources  efficiently  and  distributes  goods   and  services  equitably  among  individuals   o used  efficiently  when  goods  and  services  produced:    at  lowest  possible  cost   1     Jessica  Gahtan    in  quantities  that  give  the  greatest  possible  benefit   • interaction  of  self-­‐interest  and  social  interest   o Globalization    expansion  of  international  trade,  borrowing,  lending  ,  ad  investment   o The  information-­‐age  economy    technological  change  of  the  1990s  and  2000s   o Global  warming    climate  change  and  political  issues  associated   o Natural  resource  depletion    Over-­‐fishing  in  international  waters,  clear-­‐cutting  rainforests,  etc.   o Economic  instability    Choices  leading  up  to  recession,  etc.   • tradeoff:  an  exchange,  giving  up  one  thing  to  get  something  else    as  a  society  tradeoff  current  consumption   and  leisure  time  for  economic  growth   and  higher  future  consumption   • saving,  education,  research  and  development   o What:  spending  income  on  various  things,  what  to  produce   o How:  choosing  among  alternative  production  technolog ies   o Whom:  distribution  of  buying  power(voluntary  payment,  theft,  taxes  a    benefits) • big  tradeoff:  between  equality  and  efficiency   • opportunity  cost:  the  highest  valued  alternative  forgone   o "There's  no  such  thing  as  a  free  lunch"   • margin:  the  consequences  of  making  incremental  changes  in  the  use  of  resources   o marginal  benefit:  the  benefit  that  arises  from  an  increase  in  an  activity    decreasing  function   o marginal  cost:  the  cost  of  an  increase  in  an  activity    increasing  function   o If  marginal  benefit  exceeds  marginal  cost,  incentive  to  do  more  of  that  activity.   o If  marginal  cost  exceeds  marginal  benefit,  incentive  to  do  less  of  that  activity.   o Incentives  are  the  key  to  reconciling  self-­‐interest  and  the  social  interest.   • Economists  emphasize  the  role  of  institutions  in  creating  incentives  to  behave  in  the  social   interest   o Paramount:  the  rule  of  law  that  protects  private  property  and  facilitates  voluntary   exchange  in  markets.   • Positive  statements:  what  is   • Normative  statements:   what  ought  to  be   • economic  model:  description  of  some  aspect  of  the  economic  world   -­‐  unscrambles  cause  and   effect   o natural  experiment:  situation  that  arises  in  the  ordinary  course  of  economic  life,  factors   of  interest  is  different,  other  things  are  similar   o statistical  investigation:  look s  for  correlation   2     Jessica  Gahtan   o economic  experiment:  puts  people  in  decision -­‐making  situation  and  varies  influence  of   one  factor  at  a  time  to  see   response   • Economics  as  a  policy  tool   o Personal  economic  policy:  marginal  benefit  and  marginal  cost  for  personal  decisions   o Business  economic  policy:  marginal  benefit  and  marginal  cost  for  businesses,  interaction   of  individuals  with  the  firm   o Government  economic  policy:  marginal  benefit  and  marginal  cost  of  government   decisions,  interaction  of  individuals  with  businesses   Graphs   • time-­‐series  graph:  time  on  x-­‐axis,  variable  on  y-­‐axis   • cross-­‐section  graph:    value  of  variable  of  different  groups  at  a  particular  point  in  time   • scatter  diagram:  plots  points  to  show  relationship  between  to  variables   o positive/direct  relationship:   variables  move  in  same  direction    linear  relationship:  straight  line   o negative/inverse  relationship:   variables  move  in  opposite  directions   • Ceteris  paribus:  if  all  other  relevant  things  remain  the  same   Ch.  2:  The  Economic  Problem   • Production  possibilities  frontier  (PPF):  boundary  between  combinations  of  goods  and  services   that  can  and  cannot  be  produced.    outward  bowed-­‐out  shape  reflects  increasing  opportunity  cost   • not  all  resources  are  equally  productive  in  all  activities   o cannot  attain  points  outside  of  frontier  (scarci ty)   o points  inside  frontier  are   inefficient    resources  are  unused  or  misallocated   • production  efficiency:  if  goods  and  services  produced  at  lowest  possible  cost   • allocative  efficiency:  goods  and  services  are  produced  at  the  lowest  possible  coast  and  in  the   quantities  that  provide  the  greatest  possible  benefit   o intersection  of  marginal  cost  and  marginal  benefit   • preferences:  description  of  a  person's  likes  and  dislikes   o illustrated  on  marginal  benefit  curve   • Economic  growth:    expansion  of  production,  PPF  shifts  r ight.  Opportunity  cost  of  economic   growth  is  less  current  consumption   o technological  change:    development  of  new  goods  and  of  better  ways  of  producing   o capital  accumulation:  growth  of  capital  resources,  including  human  capital   • comparative  advantage:  a  person  can  perform  the  activity  at  a  lower  opportunity  cost  than   anyone  else   • Absolute  advantage:  a  person  who  is  more  productive  than  others.  Production  per  hour   o gain  from  trade  if  specialization  at  comparative  advantage   • dynamic  comparative  advantage:   gaining  comparative  advantage  from  learning -­‐by-­‐doing   3     Jessica  Gahtan   o Learning-­‐by-­‐doing:  specialize  and  by  repeatedly  producing  a  pa rticular  good  or  service   become  more  productive  in  that  activity  and  lower  the  opportunity  cost  of  producing   that  good  over  time.     • Economic  coordination:  decentralized  economic  planning   o Firms:  economic  unit  that  hired  factors  of  production  to  produce  and  sell  goods  and   services   o Markets:  arrangement  that  enables  buyers  and  sellers  to  get  information  and  to  do   business  with  each  other    facilitates    trade   o Property  rights:  social  arrangement  that  govern  ownership,  use,  and  disposal  of   anything  people  value    Real  property:  land,  buildings,  equipment,   etc.    Financial  property:  stocks,  bods,  money,   etc.    Intellectual  property:  intangible  product  of  creati ve  effort:  books,  music,  etc.   o Money:  any  commodity  or  token  that  is  generally  acceptable  as  a  means  of  payment   • Circular  flow  through  markets     Ch.  3:  Demand  and  Supply   • competitive  market:    a  market  that  has  many  buyers  and  sellers,  so  no  single  buyer  or  seller  can   influence  the  price   • money  price:    the  amount  of  money  needed  to  buy  an  item   • relative  price:  opportunity  cost,  the  ratio  of  price  over  price  of  the  forgone  alternative       4     Jessica  Gahtan   Demand   • demand:  relationship  between  price  and  quantity  demanded   • If  demand  exists  then:   o must  want  it   o can  afford  it   o plan  to  buy  it   • Wants:  unlimited  desired  or  wishes  that  people  have  for  goods  and  services.  Demand  reflects   which  wants  to  satisfy   • quantity  demanded:  amount  that  consumers  plan  to  buy  during  a  given  time  period  at  a   particular  price   • Law  of  Demand   o other  things  remain  the  same,  the  higher  the  price  of  a  good,  the  smaller  is  the  quantity   demanded;  the  lower  the  price  of  a  good,  the  greater  is  the  quantity  demanded    Substitution  effect:  when  relative  cost  (opportunity  cost)   increases,  people  seek   substitutes,  thus  quantity  demand  decreases    Income  effect:  when  cost  increases ,  and  income  remains  the  same,  people   cannot  afford  to  buy  all  of  the  same  things,  thu s  quantity  demanded  decreases   • Willingness  and  ability  to  pay:  demand  curve,  the  more  quantity,  the  less  people  are  willing  to   pay.  The  less  the  quantity ,  the  more  people  are  willing  to  pay.   • Change  in  demand:  movement  of  entire  demand  curve   o prices  of  related  goods    substitute:  increase  in  price  of  substitute,  increase  in  demand;  decrease  in  price   of  substitute,  decrease  in  demand    complement:  increase  in  price  of  complement,  decrease  in  demand;  decrease  in   price  of  complement,  increase  in  demand     o expected  future  prices    increase  in  future  price,  increase  in  current  demand;  decrease  in  future  price,   decrease  in  current  demand   o income    normal  good:  increase  in  income,  increase  in  demand;  decrease  in  income,   decrease  in  demand    inferior  good:  increase  in  income,  decrease  in  demand;  decrease  in  income,   increase  in  demand   o expected  future  income  and  credit    increase  in  future  income  and  credit,  increase  in  current  demand;  decrease  in   future  income  and  credit,  decrease  in  demand   o population    increase  in  population,  increase  in  demand;  decrease  in  population,  decrease  in   demand   o preferences    change  in  preference  affects  demand  in  same  way   5     Jessica  Gahtan   • Change  in  quantity  demanded:   movement  along  demand  curve   Supply   • supply:  relationship  between  the  price  of  a  good  and  the  quantity  supplie d   • If  supply  exists  then:   o firm  has  the  resources  and  technology  to  produce   o can  profit  from  producing   o plans  to  produce  and  sell   • quantity  supplied:  the  amount  that  producers  plan  to  sell  during  a  given  time  period  at  a   particular  price   • law  of  supply   o the  higher  the  price  of  a  good,  the  greater  is  the  quantity  supplied;  the  lower  the  price   of  a  good,  the  smaller  is  the  quantity  supplied    marginal  cost  increases,  so  producers  are  willing  to  bear  the  increase  if  price  is   high  enough   • minimum  supply  price:   lowest  price  is  marginal  cost,  as  production  increases  so  does  price   • Change  in  supply:  shift  of  the  entire  supply  curve   o prices  of  factors  of  production    increase  in  cost,  decrease  in  supply;  decrease  in  cost,  increase  in  supply   o prices  of  related  goods  produced    substitutes:  increase  in  price  of  related  good  produced,  decrease  in  supply;   decrease  in  price  of  related  good  produced,  increase  in  supply    complement:  increase  in  price  of  complement,  increase  in  supply;  decrease  in   price  of  complement,  decrease  in  supply   o expected  future  prices    increase  in  future  price,  decrease  in  current  supply;  decrease  in  future  price,   increase  in  current  supply   o number  of  suppliers    increase  in  number  of  suppliers,  increase  in  supply;  decrease  in  number  of   suppliers,  decrease  in  supply   o technology    technology  lowers  price  of  factors  of  production   o state  of  nature    weather  and  other  natural  phenomenon  influence  supply  in  various  ways   • Change  in  supply  demanded:   movement  along  supply  curve   Market  Equilibrium   • Equilibrium:  situation  in  which  opposing  forces  balance  each  other.  In  a  marker,  occurs  when   price  balances  the  plans  of  buyers  and  sellers   o price  regulate  buying  and  selling  plans   o price  adjusts  when  plans  don't  match   6     Jessica  Gahtan   • equilibrium  price:  price  at  which  the  quantity  demanded  equals  the   quantity  supplied   • equilibrium  quantity:  quantity  bought  and  sold  at  the   equilibrium  price   • Price  adjustments   o a  shortage  forces  the  price  up    consumers  want  more  than  is  supplied    price  increases,  demand  decreases,  supply  increases,  equilibrium  found   o a  surplus  forces  the  price  down    suppliers  produce  more  than  consumers  demand    price  decreases,  supply  decreases,  demand  increases,  equilibrium  found   Ch.  4:  Elasticity   Elasticity  of  demand   • price  elasticity  of  demand:  unit-­‐free  measure  of  the  responsiveness  of  the  qua ntity  demanded   of  a  good  to  a  change  in  its  price  when  all  other  influences  on  buying  plans  remain  the  same   𝑷𝒆𝒓𝒄𝒆𝒏𝒕𝒂𝒈𝒆  𝒄𝒉𝒂𝒏𝒈𝒆  𝒊𝒏  𝒒𝒖𝒂𝒏𝒕𝒊𝒕𝒚  𝒅𝒆𝒎𝒂𝒏𝒅𝒆𝒅 ∆𝑸𝒖𝒂𝒏𝒕𝒊𝒕𝒚 𝑨𝒗𝒆𝒓𝒂𝒈𝒆  𝑸𝒖𝒂𝒏𝒕𝒊𝒕𝒚 o 𝑷𝒆𝒓𝒄𝒆𝒏𝒕𝒂𝒈𝒆  𝒄𝒉𝒂𝒏𝒈𝒆  𝒊𝒏  𝒑𝒓𝒊𝒄𝒆 = ∆𝑷𝒓𝒊𝒄𝒆 𝑨𝒗𝒆𝒓𝒂𝒈𝒆  𝑷𝒓𝒊𝒄𝒆    Percentages  and  proportions    unit-­‐free  measure    magnitude,  no  positive/negative  values   • Elastic  demand:  percentage  change  in  quantity  demanded  is  greater  than  the  percentage   change  in  price.    elasticity  >  1   • Inelastic  demand:  percentage  change  in  quantity  demanded  is  less  than  the  percentage  change   in  price.  elasticity  =  between  0  and  1   • Perfectly  inelastic  demand:    quantity  demanded  remains  constant  when  price  changes.   elasticity  =  0  (vertical  line)   • Unit  elastic  demand:  percentage  change  in  quantity  demanded  equals  the  percentage  change  in   price.  elasticity  =  1   • Perfectly  elastic  demand:  quantity  demanded  changes  by   an  infinitely  large  percentage  in   response  to  a  tiny  price  change.  elast∞  =(horizontal  line)   • Elasticity  along  a  straight -­‐line  demand  curve         • at  midpoint:  unit  elastic   • above  midpoint:  elastic   • below  midpoint:  inelastic                 7     Jessica  Gahtan       • total  revenue:  price  of  good  multiplied  by  the  quantity  sold   o If  demand  is  elastic,  a  1%  price  cut  increases  quantity  sold  by  more  than  1%  and  total   revenue  increases   o If  demand  is  inelastic,  a  1%  price  cut  increases  quantity  sold  by  less  than  1%  and  total   revenue  decreases   o If  demand  is  unit  elastic,  a  1%  price  cut  increases  quantity  sold  by  1%  and  total  reve nue   does  not  change   • total  revenue  test:  method  of  estimating  the  price  elasticity  of  demand  by  observing  the  change   in  total  revenue  that  results  from  a  change  in  the  price   • Expenditures   o If  your  demand  is  elastic,  a  1%  price  cut  increases  the  quantity  you   buy  by  more  than  1%   and  your  expenditures  on  the  item  increases   o If  you  demand  is  inelastic,  a  1%  price  cut  increases  the  quantity  you  buy  by  less  than  1%   and  your  expenditures  on  the  item  decreases   o If  your  demand  is  unit  elastic  a  1%  price  cut  increases  th e  quantity  you  buy  by  1%  and   your  expenditures  on  the  item  does  not  change   • Factors  that  influence  the  elasticity  of  demand   o closeness  of  substitutes    the  closer  the  substitutes  for  a  good/service,  the  more  elastic  the  demand  is   • necessities  are  inelastic   • luxuries  are  elastic   o proportion  of  income  spent  on  the  good    the  greater  the  proportion  of  income  spent  on  the  good,  the  more  elastic  the   demand  is   o time  elapsed  since  price  change    the  longer  the  time  has  elapsed  since  a  price  change,  the  more  elastic  the   demand  is   • cross  elasticity  of  demand:   measure  of  the  responsiveness  of  the  demand  for  a  good  to  a   change  in  the  price  of  a  substitute  o  complement   𝑷𝒆𝒓𝒄𝒆𝒏𝒕𝒂𝒈𝒆  𝒄𝒉𝒂𝒏𝒈𝒆  𝒊𝒏  𝒒𝒖𝒂𝒏𝒕𝒊𝒕𝒚  𝒅𝒆𝒎𝒂𝒏𝒅𝒆𝒅 ∆𝑸𝒖𝒂𝒏𝒕𝒊𝒕𝒚 𝑨𝒗𝒆𝒓𝒂𝒈𝒆  𝑸𝒖𝒂𝒏𝒕𝒊𝒕𝒚 o 𝑷𝒆𝒓𝒄𝒆𝒏𝒕𝒂𝒈𝒆  𝒄𝒉𝒂𝒏𝒈𝒆  𝒊𝒏  𝒑𝒓𝒊𝒄𝒆  𝒐𝒇  𝒂  𝒔𝒖𝒃𝒔𝒕𝒊𝒕𝒖𝒕𝒆  𝒐𝒓  𝒄𝒐𝒎𝒑𝒍𝒆𝒎𝒆𝒏𝒕 = ∆𝑷𝒓𝒊𝒄𝒆 𝑨𝒗𝒆𝒓𝒂𝒈𝒆  𝑷𝒓𝒊𝒄𝒆   o substitutes:  positive  relationship:  increase  in  price  of  substitute  shifts  demand  curve   right   o complement:  negative  relationship:  increase  in  price  of  complement  shifts  demand   curve  left   • income  elasticity  of  demand:  responsiveness  of  the  demand  for  a  good/service  to  a  change  in   income   ▯▯▯▯▯▯▯▯▯▯  ▯▯▯▯▯▯  ▯▯  ▯▯▯▯▯▯▯▯  ▯▯▯▯▯▯▯▯ o     ▯▯▯▯▯▯▯▯▯▯  ▯▯▯▯▯▯  ▯▯  ▯▯▯▯▯▯ o Greater  than  1:  normal  good,  income  elastic  (luxury)    percentage  increase  in  quantity  demanded  exceed  the  percentage  increase  in   income    percentage  of  income  spent  on  the  good  increases  as  income  increases   o Positive  and  less  than  1:  normal  good,  income  inelastic  (necessities)   8     Jessica  Gahtan    percentage  increase  in  quantity  demanded  is  positive  but  less  than  the   percentage  increase  in  income    percentage  of  income  spend  on  the  good  decreases  as  income  increases   o Negative:  inferior  good    quantity  demanded  of  an  inferior  good  and  the  amount  spent  on  it  decreases   when  income  increases   Elasticity  of  Supply   • elasticity  of  supply:  measures  the  responsiveness  of  the  quantity  supplied  to  a  change  in  the   price  of  a  good     𝑷𝒆𝒓𝒄𝒆𝒏𝒕𝒂𝒈𝒆  𝒄𝒉𝒂𝒏𝒈𝒆  𝒊𝒏  𝒒𝒖𝒂𝒏𝒕𝒊𝒕𝒚  𝒔𝒖𝒑𝒑𝒍𝒊𝒆𝒅 ∆𝑸𝒖𝒂𝒏𝒕𝒊𝒕𝒚 𝑨𝒗𝒆𝒓𝒂𝒈𝒆  𝑸𝒖𝒂𝒏𝒕𝒊𝒕𝒚 o 𝑷𝒆𝒓𝒄𝒆𝒏𝒕𝒂𝒈𝒆  𝒄𝒉𝒂𝒏𝒈𝒆  𝒊𝒏  𝒑𝒓𝒊𝒄𝒆 = ∆𝑷𝒓𝒊𝒄𝒆 𝑨𝒗𝒆𝒓𝒂𝒈𝒆  𝑷𝒓𝒊𝒄𝒆   • Perfectly  inelastic  supply:    quantity  supplied  remains  constant  when  price  changes.  elasticity  =  0   (vertical  line)   • Unit  elastic  supply:  percentage  change  in  quantity  supplied  equals  the  percentage  change  in   price.  No  matter  of  slope,  if  it  is  linear  and  passes  through  origin,  it  is  unit  elastic   • Perfectly  elastic  supply:    If  there  is  a  price  at  which  sellers  are  willing  to  offer  any  quantity  for   sale.  elasticity=∞ (horizontal  line)   • Factors  that  influence  the  elasticity  of  supply   o resource  substitution  possibilities    The  easier  it  is  to  substitute  among  the  resources  used  to  produce  a  good  or   service,  the  greater  is  its  elasticity  of  supply.   o time  frame  for  the  supply  decision    The  more  time  that  passes  after  a  price  change,  the  greater  is  the  elasticity  of   supply.   • Momentary  supply  is  perfectly  inelastic.  The  quantity  supplied   immediately  following  a  price  change  is  constant   • Short-­‐run  supply  is  somewhat  elastic   • Long-­‐run  supply  is  the  most  elastic       9     Jessica  Gahtan   Ch.  5:  Efficiency  and  Equity   Resource  Allocation  Methods   • market  price   o people  who  are  willing  and  able  to  pay  get  the  resource    people  can  choose  not  to  pay,  or  people  are  too  poor  to  afford  it   • command   o command  system:  allocated  resources  by  the  order  of  someone  in  authority   o works  well  in  firms  (job  allocation)  with  clear  lines  of  authority,   but  badly  in  an  entire   economy   • majority  rule   o allocates  resources  in  the  way  that  a  majority  of  voters  choose   o Works  best  when  decisions  being  made  affect  large  number  of  people  and  self -­‐interest   must  be  suppressed  (decisions  on  taxes,  etc.)   • contest   o allocates  resources  to  a  winner  (or  group  of  winners)   o works  well  when  the  efforts  of  the  "players"  are  hard  to  monitor  and  reward  directly   • first-­‐come,  first-­‐served   o allocated  resources  to  those  who  are  first  in  line     o works  best  when  a  scarce  resource  can  serve  just  one  user  at  a  time  in  a  sequence    minimizes  the  time  spent  waiting  for  the  resource  to  become  free   • sharing  equally   o everyone  gets  the  same  amount   o works  best  for  small  groups  that  share  a  common  goal   • lottery   o allocate  resources  to  those  that  win  (unlike  conte st,  no  skill  is  involved;  luck)   o works  best  when  there  is  no  effective  way  to  distinguish  among  potential  users   • personal  characteristics   o allocates  resources  on  the  basis  of  personal  characteristic      can  be  discriminatory  on  certain  basis  like  job  selection   • force   o allocated  resource  by  force   o war,  theft   o effective  in  transferring  wealth  from  the  rich  to  the  poor    provides  legal  framework  in  which  voluntary  exchange  in  markets  takes  place   Demand  and  Marginal  Benefit   • value:  what  we  get   o value  of  one  more  unit  is  marginal  benefit   • price:  what  we  pay   • willingness  to  pay  determines  demand   10     Jessica  Gahtan   o a  demand  curve  is  a  marginal  benefit  curve   • individual  demand:  relationship  between  the  price  of  a  good  and  the  quantity  demanded  by   one  person   • market  demand:  relationship  between  the  price  of  a  good  and  the  quantity  demanded  by  all   buyers   o market  demand  cure  is  the  marginal  social  benefit  cure   • consumer  surplus:  value  of  a  good  minus  the  price  paid  for  it,  summed  over  the  quantity  bought             o area  of  green  triangle  is  sum  of  all  surplus es  =  consumer  surplus   o area  of  blue  rectangle  shows  price  paid   Supply  and  Marginal  Cost   • cost:  what  a  producer  gives  up   o cost  of  producing  one  more  unit  is  the  marginal  cost   • price:  what  a  producer  receives   • marginal  cost  is  the  minimum  price  a  producer  must  re ceive  to  offer  one  more  unit  for  sale   • minimum  supply-­‐price  determines  supply   o a  supply  curve  is  a  marginal  cost  curve   • individual  supply:  relationship  between  the  price  of  a  good  and  the  quantity  supplied  by  one   producer   • market  supply:  relationship  between  the  price  of  a  good  and  the  quantity  supplied  by  all   producers   o market  supply  curve  is  the  marginal  social  cost  curve   • producer  surplus:  price  received  for  a  good  minus  its  minimum  supply -­‐price  (marginal  cost),   summed  over  quantity  sold             11     Jessica  Gahtan   o area  of  blue  triangle  sum  of  all  surpluses  =  producer  surplus   o red  area    shows  cost  of  production   Is  the  Competitive  Market  Efficient?   • Efficient  if   o marginal  social  benefit  =  marginal  social  cost   o total  surplus  (sum  of  consumer  surplus  and  producer  sur plus)  is  maximized     • The  Invisible  Hand:  Adam  Smith's  Wealth  of  Nations   o competitive  markets  send  resources  to  their  highest  valued  use  in  society   o consumers  and  producers  pursue  their  own  self -­‐interest  and  interact  in  market   o market  transactions  generate  and   efficient  (highest  valued)  use  of  resources   • Inefficiency  occurs  if  too  little  of  an  item  is  produced  (underproduction)  or  too  much  is  produced   (overproduction)   o Deadweight  loss:  the  decrease  in  total  surplus  (gray  triangle) .  It  is  a  social  loss    underproduction:  surplus  is  lower  than  maximum  level    overproduction:  resources  are  wasted,  reducing  surplus                 •  Obstacles  to  efficieny   o price  and  quantity  regulations    blocking  price  adjustments  leads  to  underproduction    limiting  amount  of  production  leads  to  underproduction   o taxes  and  subsidies    taxes  increase  prices  paid  by  buyers  and  lowers  prices  received  by  seller   • leads  to  underproduction    subsidies  lower  prices  paid  by  buyers  and  increases  prices  received  by  sellers   • leads  to  overproduction   o externalities    cost  or  benefit  that  affects  someone  other  than  the  seller  or  buyer   o public  goods  and  common  resources    public  goods  benefit  everyone  and  no  one  can  be  excluded   12     Jessica  Gahtan    common  resources  are  owned  by  no  one  but  available  to  everyone,      tragedy  of  the  commons:  overuse  of  the  resource     o monopoly    a  sole  provider  of  a  good  or  service    typically  under  produces  and  charges  high  price   o high  transaction  costs    transaction  costs:  opportunity  cost  of  making  trades  in  the  market   • Alternatives  to  market:  no  efficient  mechanism   for  resources  efficiently   o majority  rule   o first-­‐come,  first-­‐served   Is  the  Competitive  Market  Fair?   • It's  not  fair  if  the  result  isn't  fair   o utilitarianism:  principle  that  states  that  we  should  strive  to  achieve  "the  greatest   happiness  for  the  greatest  number"    transferring  income  from  the  rich  to  the  poor  increases  total  benefit   • the  rich  have  a  lower  benefit  of  income  than  the  poor    utilitarian  ideal  ignore  the  cost  of  making  income  transfers     • John  Rawls  solution:  make  the  poorest  as  well  off  as  possible   • It's  not  fair  if  the  rules  aren't  fair   o symmetry  principle:  requirement  that  people  in  similar  situation  be  treated  similarly      equality  of  opportunity    Robert  Nozick  suggests  fairness  based  on  two  rules:   • the  state  must  enforce  laws  that  establish  and  protect  private  property   • private  property  may  be  transferred  from  one  person  to  another  only  by   voluntary  exchange    for  resource  to  be  allocated  efficiently  they  must  be  allocated  fairly   Ch.  6:  Government  Actions  in  Markets   A  Housing  Market  with  a  Rent  Ceiling   • price  ceiling  (price  cap):  a  government  regulation  that  makes  it  illegal  to  charge  a  price  higher   than  a  specified  level   o price  ceiling  above  equilibrium  price  has  no  effect   o price  ceiling  below  equilibrium  price  has  powerful  effects  on  a  market   • rent  ceiling:  when  a  price  ceiling  is  applied  to  a  housing  market     o create  a  housing  shortage    quantity  demanded  at  ceiling  price  exceeds  the  quantity  supplied   o search  activity:  time  spent  looking  for  someone  with  whom  to  do  business    a  shortage  increases  search  activity    opportunity  cost  =  rent  +  time  and  resource  spent  searching   o black  market:  an  illegal  market  in  which  the  equilibrium  price  exceeds  the  price  ceiling   13     Jessica  Gahtan    ex.  scalpers  overcharging  for  tickets    Sneaky  tactics  like  charging  renters  for  keys,  etc.    level  of  black  market  depends  on  level  of  enforcement  of  price  ceiling     • inefficiency  of  a  rent  ceiling   o inefficient  underproduction  of  housing  services   o marginal  social  benefit  exceeds  marginal  social  cost    deadweight  loss  shrinks  consumer  and  producer  surplus                 • fairness   o according  to  fair  rules:  unfair  because  it  blocks  voluntary  exchange   o according  to  fair  results:  unfair  because  it  does  not  generally  benefit  the  poor    decreases  quantity  so  resources  allocated  through:  lottery,  first -­‐come-­‐first-­‐ served,  discrimination     A  Labour  Market  with  a  Minimum  Wage   • price  floor:  a  government-­‐imposed  regulation  that  makes  it  illegal  to  charge  a  price  lower  than  a   specified  level   o price  floor  below  equilibrium  price  has  no  effect   o price  floor  above  equilibrium  price  has  powerful  effects  on  a  market   • minimum  wage:  when  a  price  floor  is  applied  to  a  labour  market   o minimum  wage  creates  unemployment    quantity  of  labour  exceeds  the  quantity  of  labour  demanded   • surplus  of  labour    quantity  of  labour  hired  at  minimum  wage  is  less  than  quantity  that  would   be   hired  in  unregulated  labour  market   • inefficiency  of  minimum  wage   o supply  curve  measures  the  marginal  social  cost  of  labour  to  workers    leisure  forgone   o demand  curve  measures  the  marginal  social  benefit  from  labour    value  of  goods  and  service  produced   14     Jessica  Gahtan   o marginal  social  benefit  exceeds  marginal  social  cost      deadweight  loss  shrinks  the  firms'  and  workers'  surplus                 • Is  the  minimum  wage  fair?   o those  with  jobs  keep  them  and  benefit  from  minimum  wage   o increased  job  search  =  increase  in  incurred  costs   o most  economists  believe  a  minimum  wage  increases  the  unemployment  rate  of  low -­‐ skilled  younger  workers   Taxes   • tax  incidence:  the  division  of  the  burden  of  tax  between  buyers  and  seller   o when  item  is  taxed,  price  may:    increase  by  full  amount:  buyer  pays  tax    increase  by  part  of  amount:  buyer  and  seller  pay  the  tax    not  increase:  seller  pays  tax   • tax  on  sellers   o increase  of  cost  so  decrease  in  supply   o position  of  new  supply  curve    add  the  tax  to  the  minimum  price  that  sellers  are  willing  to  accept  for  each   quantity  sold                     d   15     Jessica  Gahtan   • tax  on  buyers   o lowers  amount  buyers  are  willing  to  pay  seller,  so  decrease  in  demand   o position  of  new  demand  curve    subtract  tax  from  the  maximum  price  that  buyers  are  willing  to  pay  for  each   quantity  bought                 • equivalence  of  tax  on  buyers  and   sellers   o same  effects  if  buyers  or  sellers  are  taxed   o buyers  respond  to  the  price  that  includes  tax   o sellers  respond  to  the  price  that  excludes  tax   • tax  incidence  and  elasticity  of  demand :  more  inelastic  demand  is,  larger  is  buyers'  share  of  tax   o perfectly  inelastic  demand  →  buyers  pay            
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